FINDING NEUTRAL — Bank of Canada Governor TIFF MACKLEM has been teasing a rate cut on the horizon; Canadians will know by lunchtime if today’s the day. Count FRANCES DONALD, global chief economist and strategist at Manulife Investment Management, among a cohort of economists forecasting an interest rate cut today. Whether there’s a cut today or not isn’t the big question on Donald’s mind. She’s focused on how big the easing cycle will be in Canada. She tells Playbook she’s also watching an “atypical” development in the U.S. Federal Reserve. “There's probably a limit to how much [the Bank of Canada] can diverge from the Federal Reserve over a two- to three-year horizon,” she said. “There are also conversations about what the appropriate long-term level of interest rates should be in Canada vs. the United States, often termed by economists to be the neutral rate. What is the rate that is neither tightening nor easing in an economy?” This conversation has been edited for length and clarity. Where will your eyes go first with today’s rate announcement? First and foremost, do they actually cut interest rates? As much as June is “on the table” per Macklem’s comments, there is an outside chance they choose to get more information. Second is the general tone of the statement. What will matter for most Canadians, what will matter for markets is not this interest rate cut: What is the bar for the next cut? Just how much will rates fall in this brand-new easing cycle? What do you mean by tone? What markers are you looking for there? Most of the inflation data is very supportive of a rate cut. At the same time, the labor market in Canada is still looking, on the surface, at least relatively robust. How the Bank of Canada chooses to emphasize the upside versus downside risks on inflation and the labor market is going to be a good clue into whether they move quickly in this easing cycle or not. What we're looking for in the Bank of Canada statement is any indication as to how their decision-making function has changed or will be sensitive to developments in the economy in the next six months. What do you look at to understand how big an easing cycle will be in Canada? There are two economies happening right now in Canada. There's the total aggregate economy that comes up in things like GDP for the national economy and the number of jobs created. Then there's the economy Canadians are feeling, which looks substantially worse. We can measure that through consumer confidence data, or GDP per capita, which has been declining for seven quarters. Our forecast is that this aggregate economy — the one that households and businesses hear about on television or in the newspaper — is going to weaken pretty substantially in the second half of the year and we'll enter a technical recession. Many Canadians probably already feel like they are in a recession. We believe Canada's economy will continue to weaken, that inflation will decline and the unemployment rate will rise. We expect the Bank of Canada is going to have to bring rates down to 3 percent at a minimum over the next year and a half. However, if we begin to see inflation re-accelerate, either from global factors or domestic factors, getting back down to 3 percent won't be an option. You’ve mentioned we’re at a tipping point on monetary policy, how the U.S. is diverging from the rest of the world when it comes to cuts vs. holding. What is the impact of Canada and Europe potentially moving into an easing cycle earlier than the U.S.? It’s not just Canada that's going to be cutting rates this week. The European Central Bank has also strongly indicated they will be cutting on Thursday and most other major developed markets, central banks have been clear they'll be bringing rates down, too. What's peculiar about this development is that it is somewhat atypical. Usually the U.S. Federal Reserve leads the world and other central banks follow, give or take a few months. In this situation, we've had emerging markets led by China, who cut first. Now, we have countries like Canada, and the [European Central Bank] who are now cutting. And the Fed may end up being one of the last ones to cut rates. In the grand scheme of things, that divergence is going to look like a blip on the chart because it's likely to be a matter of months, not years. But in the near term, it is creating some turbulence. We don't believe the Bank of Canada will or should delay rate cuts because the Fed is delaying. If anything delaying rate cuts, when the economy needs it would only lead to having to cut more and faster at a later point. | 
